There's a new Grinch stealing holiday cheer, and her name is IRMAA.
That's short for Income Related Monthly Adjustment Amounts, which is government lingo for the higher Medicare premiums that some people must pay next year if their retirement incomes exceed a certain level.
The Social Security Administration started sending letters in late November to retirees affected by next year's premium surcharges because the income on their most recent tax return (2014) topped $85,000 if single or exceeded $170,000 if married.
In many cases, the IRMAA notices come as a complete — and nasty — surprise. Flummoxed consumers and advisers have been contacting me for an explanation.
First, a little background. Most Medicare beneficiaries pay a base premium of $104.90 per month in 2015. Couples where both spouses are enrolled in Medicare pay twice that amount. But if their modified adjusted gross income (MAGI), which includes adjusted gross income plus tax-exempt interest, exceeds the income thresholds, they will pay more.
Premiums for both Medicare Part B, which covers doctor visits and out-patient services, and Medicare Part D, which covers prescription drug costs, are based on five-tier income brackets. If your MAGI exceeds an income bracket by just $1, you are catapulted into the next tier and will pay a higher surcharge.
In mid-November, the Centers for Medicare and Medicaid Services announced that the base Medicare premium for most retirees would remain at this year's level of $104.90 per month. That's because there will be no Social Security cost-of-living adjustment for 2016, and the law protects the bulk of retirees from an increase in Medicare premiums in years when there is no increase in Social Security benefits to prevent a net decline in retirement income. Medicare Part B premiums are usually deducted directly from monthly Social Security benefits.
But not everyone is protected by this “hold harmless” provision. People newly enrolled in Medicare in 2016 and those who are already enrolled in Medicare but who are not collecting Social Security benefits will pay a new higher Medicare premium of $121.80 per month in 2016.
People whose 2014 income topped the $85,000/$170,000 thresholds will pay even more next year — in some cases, a lot more.
One reader, a retired pharmacist from Maryland, was shocked to learn that his Medicare premium would more than double from $104.90 per month this year to $243.60 in 2016. The culprit? He and his wife both turned 70½ in 2014, and they had to start taking required minimum distributions from their IRAs that year. Together they will be paying nearly $500 per month in Medicare Part B premiums plus a surcharge of $32.80 per month per person on top of their regular Medicare Part D premiums.
“If I had known then what I know now about how my income would affect my Medicare premiums, I would have done things differently,” he told me. “I would have contributed to my company retirement plan only up to the employer match and I would have diverted the rest of my investments to non-retirement accounts that would have been taxed at capital gains rates rather than ordinary income,” he said. “I also would have converted a little of my IRA to a Roth IRA each year to create tax-free income in retirement.”
It's a valid observation. How many of your clients socked all their savings into their company 401(k) plans only to discover too late that their income taxes are much higher in retirement than they had expected? And now you can add Medicare premium surcharges to the unwelcome surprise list.
An accountant from New York sent me a client's IRMAA determination letter that showed both his and his wife's Medicare Part B premiums will jump from $104.90 per month this year to $316.70 per person per month in 2016, plus surcharges for their prescription drug plan. The standard IRMAA determination letter notes, “MAGI may include one-time-only income, such as capital gains, the sale of property, withdrawal from an individual retirement account or conversion from a traditional IRA to a Roth IRA.”
The CPA was incensed. “An American senior citizen may take money from an IRA to help out a family member or have a one-time taxable gain on the sale of a home,” he wrote. “Generally, they pay more income taxes on that. Then they are penalized the following year with higher Medicare premiums as if they have won the lottery.”
My colleague Katy Votava, president of Goodcare.com and a contributor to InvestmentNews, recently wrote an excellent column on how advisers can reduce their client's taxable income and hold down Medicare premiums by using life insurance and annuities.
As Ms. Votava noted, tax-efficient retirement income planning will take on added importance next year. There will be dramatic changes in the IRMAA income tiers in 2018 resulting in more Medicare beneficiaries paying higher surcharges. And those 2018 surcharges will be based on 2016 MAGI.
Mary Beth Franklin is a certified financial planner.